Atlantic American Corporation — Q1 2012 Form 10-Q
Business context and period. Insurance holding company with property and casualty operations (American Southern) and life and health operations (Bankers Fidelity). Results cover the three months ended March 31, 2012; financial amounts below are in millions of dollars unless stated otherwise. Comparisons are with Q1 2011, except balance-sheet comparisons, which are with December 31, 2011.
Financial results and position
| Metric | Q1 2012 / March 31, 2012 | Prior comparable period / date |
|---|---|---|
| Insurance premiums | $30.681 | $25.422 |
| Total revenue | $34.551 | $28.055 |
| Income before taxes | $1.720 | $0.628 |
| Net income | $1.657 | $0.469 |
| Net income applicable to common shareholders; diluted EPS | $1.530; $0.07 | $0.342; $0.02 |
| Investment income; realized investment gains | $2.883; $0.958 | $2.569; $0.001 |
| Operating cash flow | $(0.724) | $(2.547) |
| Cash and cash equivalents | $18.037 | $21.285 |
| Total investments; total assets | $230.191; $300.587 | $229.785; $302.125 |
| Total liabilities; shareholders’ equity | $204.669; $95.918 | $205.848; $96.277 |
| Insurance reserves and policyholder liabilities | $149.882 | $147.194 |
| Junior subordinated debentures | $41.238 | $41.238 |
- Premium growth was 20.7%, primarily from Bankers Fidelity Medicare supplement business. Total revenue increased 23.2%, while net income rose to $1.7 million from $0.5 million.
- American Southern’s combined ratio was 107.5% versus 98.0% (loss ratio 81.7% versus 56.1%; expense ratio 25.8% versus 41.9%). The higher loss ratio reflected increased claim frequency and severity across substantially all lines. Lower commissions, linked to the higher loss experience, reduced the expense ratio.
- Bankers Fidelity premiums increased 30.5% to $20.869 million. Its benefits-and-losses ratio improved slightly to 70.2% from 70.9%; commissions and other expenses were 27.9% of premiums versus 32.0%.
- Consolidated other expenses as a percentage of earned premiums decreased to 31.0% from 39.9%, according to management. The filing does not provide a consolidated underwriting combined ratio.
- Other comprehensive loss was $1.463 million, primarily reflecting unrealized losses and reclassification of realized gains on available-for-sale securities; comprehensive income was $0.194 million versus a $0.202 million loss.
- Cash fell by $3.248 million during the quarter. Investing activities used $2.016 million, and financing activities used $0.508 million, including payment of Series D preferred dividends. The company reported $25.7 million of unrestricted cash and investments at the Parent level.
Material changes and management commentary
- Management attributed higher earnings mainly to premium growth, higher investment income, and $0.958 million of realized investment gains, largely from sales of fixed maturities. Improved life and health results were partly offset by unfavorable property and casualty claims.
- American Southern gross written premiums rose 26.1%, primarily from commercial automobile business. Bankers Fidelity Medicare supplement premiums rose 37.7%, supported by core producers and new business in Missouri.
- Insurance subsidiaries reported combined statutory net income of nil for Q1 2012, compared with $2.4 million in Q1 2011. Management notes statutory and GAAP results differ, including because of acquisition-cost treatment and, for life and health, reserving methods.
- At March 31, fixed maturities had $17.316 million of gross unrealized gains and $1.413 million of gross unrealized losses. Management classified securities in loss positions as temporarily impaired and said it did not intend, and did not expect to be required, to sell them before recovery.
Liquidity, debt, risks, and outlook
- The company had no balance outstanding on its $5.0 million Wells Fargo revolving facility and reported compliance with its financial covenants. The facility was scheduled to terminate August 31, 2012.
- The $41.238 million of junior subordinated debentures bear interest at three-month LIBOR plus 4.00% or 4.10%, mature in 2032 and 2033, and had a reported effective interest rate of 4.6%. The company may defer interest, subject to restrictions; it had not elected to do so.
- An interest-rate collar hedges $18.042 million of debentures, with a 4.77% floor and 5.85% cap, and was scheduled to terminate March 4, 2013. Because LIBOR remained below the floor, payments to Wells Fargo continued. The collar was a $0.723 million liability at quarter-end.
- Management said subsidiary invested assets and expected investment earnings, premiums, and reinsurance collections should fund policy liabilities and expenses; it also expected Parent cash, subsidiary dividends and fees, tax-sharing payments, and potential borrowings to meet foreseeable liquidity needs. Insurance-subsidiary dividends are subject to regulatory limits; payments exceeding $7.8 million in 2012 would require prior approval.
- Management provided no specific earnings or revenue guidance and cautioned that Q1 results are not necessarily indicative of full-year results. Key risks include claim frequency and severity, investment values and credit quality, interest rates, and dependence on regulated subsidiary cash flows.
- Ordinary-course claims and lawsuits were not expected by management to materially affect financial condition or results. The filing also describes the usual estimation uncertainty in insurance reserves, investment impairment assessments, and fair-value measurements.
Controls and unusual items
The company disclosed a material weakness in internal control over financial reporting related to investment impairment assessments. It had determined that an other-than-temporary impairment should have been recognized in Q4 2010 rather than 2011 and said it would restate the quarter and year ended December 31, 2010. Management reported implementing remediation, including more robust quarterly investment analysis and stricter policies for unrealized losses, and concluded disclosure controls and procedures were effective at March 31, 2012. The filing does not establish here whether the material weakness itself had been fully remediated.
Important facts for investors to verify
- Review the announced 2010 restatement, the investment-impairment material weakness, and the status and effectiveness of remediation.
- Track American Southern claims experience and its combined ratio, particularly whether elevated frequency and severity persist.
- Assess sustainability of Bankers Fidelity’s rapid Medicare supplement growth and related claims and acquisition costs.
- Monitor cash generation, regulated subsidiary dividend capacity, and renewal or replacement of the $5.0 million credit facility before its August 2012 termination.
- Review investment credit exposures, unrealized losses, and the assumptions behind impairment and fair-value estimates; assess the collar’s cost while LIBOR remains below its floor.